Fitch Downgrades 3 Classes from Millstone Funding Ltd; Assigns Rating to Funding Notes

2008-05-07 23:53:10 -

- Fitch has assigned a new rating to one class of notes and downgraded three classes of notes issued by Millstone Funding Ltd (Millstone). Fitch has also withdrawn the 'F1+' commercial paper rating as detailed below. The following rating actions are effective immediately:

--$879,961,896 Funding notes assigned a 'B' rating and placed on Rating Watch Negative;

--$ 40,000,000

class A-1 notes downgraded to 'CCC' from 'AAA' and removed from Rating Watch Negative;

--$ 10,000,000 class A-2 notes downgraded to 'CC' from 'AAA' and removed from Rating Watch Negative;

--$ 65,214,353 class B notes downgraded to 'C' from 'A-' and removed from Rating Watch Negative.

Millstone is a high grade collateralized debt obligation (CDO) that closed Feb. 4, 2004 and is managed by Church Tavern Advisors, LLC. Millstone will exit its reinvestment period in March 2009. Millstone has a portfolio comprised primarily of subprime residential mortgage-backed securities (subprime RMBS), Alt-A RMBS bonds, prime RMBS, structured finance (SF) CDOs and other diversified structured finance assets. Subprime RMBS bonds of the 2005, 2006, and 2007 vintages account for approximately 5.21%, 10.42%, and 1.67% of the portfolio, respectively. Likewise, the SF CDO exposure includes SF CDOs originated in 2005 (7.27%), 2006 (11.05%) and 2007 (5.00%). Alt-A RMBS bonds of the 2005, 2006 and 2007 vintages represent approximately 21.12% of the portfolio.

Millstone was initially financed with an $880 million First Priority Commercial Paper (CP) tranche. On Dec. 21 2007 the liquidity put counterparty, Citigroup N.A., did not extend the put agreement thereby extinguishing the CP Notes by rolling the balance into the Funding Notes with the same spread and seniority. Fitch is therefore withdrawing the short-term rating from the CP Notes and assigning a long-term rating to the newly created Funding Notes.

Fitch's rating actions reflect the significant collateral deterioration within the portfolio, specifically subprime RMBS, Alt-A RMBS, and SF CDOs with underlying exposure to subprime RMBS. Since the last rating action on August 30 2007, approximately 50.8% of the portfolio has been downgraded with 41.6% of the portfolio is currently on Rating Watch Negative. The negative credit migration is primarily attributable to the credit deterioration in subprime RMBS bonds from the 2005, 2006 and 2007 vintages, coupled with significant downgrades in SF CDOs originated between 2005 and 2007. Further, the underlying portfolio currently contains 24.8% speculative grade securities of which 11.1% are rated 'CCC' or lower, which currently exceeds the credit enhancement available to the A-1 notes.

The Rating Watch Negative reflects the continued credit deterioration in subprime RMBS and SF CDOs with underlying exposure to subprime RMBS, as well as growing concerns with the performance of Alt-A RMBS. The classes rated 'CCC' and below are removed from Rating Watch as Fitch believes further negative migration in the portfolio will have a lesser impact on these classes. Additionally, Fitch is reviewing its SF CDO approach and will comment separately on any changes and potential rating impact at a later date.

The ratings of the class A-1 and A-2 notes address the likelihood that investors will receive full and timely payments of interest, as per the transaction's governing documents, as well as the stated balance of principal by the legal final maturity date. The ratings of the class B notes address the likelihood that investors will receive ultimate and compensating interest payments, as per the transaction's governing documents, as well as the stated balance of principal by the legal final maturity date.

Fitch will continue to monitor and review this transaction for future rating adjustments. Additional transaction information and historical data are available on the Fitch Ratings web site at www.fitchratings.com.

Fitch's rating definitions and the terms of use of such ratings are available on the agency's public site, www.fitchratings.com. Published ratings, criteria and methodologies are available from this site, at all times. Fitch's code of conduct, confidentiality, conflicts of interest, affiliate firewall, compliance and other relevant policies and procedures are also available from the 'Code of Conduct' section of this site

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